NEW YORK (CNN/Money) -
Intel, the world's largest maker of semiconductors, raised the lower end of its sales forecast for the first quarter Thursday, a sign that demand for chips used in personal computers and servers is healthy.

Intel's stock initially rose more than 2 percent in after hours trading on the news but later pulled back. Still, shares of other chip stocks gained ground after hours, setting the stage for a possible tech stock rally Friday.

The Santa Clara, Calif.-based company said it expects revenues to be in a range of $9.2 billion to $9.4 billion for the quarter, compared to its previous target of $8.8 billion to $9.4 billion in January. The $9.3 billion midpoint of Intel's new range is ahead of Wall Street's consensus forecast of $9.15 billion. Intel reported sales of $8.09 billion in the first quarter of 2004.

Intel also said that it now expects gross margins, a key measure of profitability, to be about 57 percent in the quarter. The company said in January that it anticipated gross margins of 55 percent. Intel cited lower manufacturing costs for the improved margin outlook.

The company did not give earnings per share guidance but analysts are forecasting a profit of 28 cents per share for the quarter, up from 26 cents a share in the same period a year ago.

Shares of Intel (Research), a Dow component, were up slightly after hours, according to INET. The stock was flat in regular trading on the Nasdaq Thursday.

Intel's good news follows a mixed bag of sales and earnings news from chip companies this week. The first quarter outlook from leading wireless handset chip maker Texas Instruments (Research) disappointed Wall Street on Monday.

Heading into the beginning of this year, there was a lot of concern about the prospects for growth in the semiconductor industry. But Tai Nguyen, an analyst with Susquehanna Financial Group, said the negativity was overdone...and that Intel's promising outlook is proof of that.

"People were so pessimistic about the PC market and semiconductors going into 2005 but it's not as bad as people were expecting. That's showing in Intel's numbers," Nguyen said.

During a conference call with analysts, Intel chief financial officer Andy Bryant said that the company was benefiting from better than expected demand globally across all product lines.

Specifically, analysts said that Intel was likely seeing a pickup in demand for chips used in notebook computers.

Richard Whittington, an analyst with Caris & Co., said that more consumers and businesses are replacing old desktop PCs with laptops and this benefits Intel since its notebook chips are far more profitable. What's more, Whittington said that Intel enjoys a technological edge over its top rival Advanced Micro Devices (Research) in this area.

"Intel can keep charging premium selling prices for their notebook chips because they are materially superior," Whittington said.

On the server side, Intel has been playing catch-up with AMD, which beat Intel to the punch with a 64-bit processor for the server market. But Krishna Shankar, an analyst with JMP Securities, thinks Intel now has momentum on its side due to its 64-bit Xeon offering. And chips for servers, like notebooks, are more profitable than standard desktop processors.

"It sounds like demand overall is pretty solid but the important thing for Intel is a richer product mix," Shankar said.

Chip chip hooray?

Still, Intel's sales surprise is good news for the rest of the industry as well, said Cody Acree, an analyst with Legg Mason.

Intel and many other semiconductor stocks took a hit last year due to fears of slowing sales for PCs and servers, fears that were heightened since many semiconductor companies were building up their inventories at a rate faster than anticipated demand.

But Intel reported a decline in inventory in the fourth quarter, raising hopes that the worst of the chip sector's inventory problems were behind it. Acree said the fact that Intel was able to raise sales guidance for the first quarter is an indication that it still has inventories under control. And considering that Intel is the dominant player in the chip industry, that's a good sign.

"The finality of the inventory correction is not only great for Intel but the entire semiconductor market. Investors had been assuming that the first quarter would be the bottom but it's nice to see real evidence of it," Acree said.

JMP's Shankar owns shares of Intel but his firm has no investment banking ties with the company or others mentioned in this piece. Other analysts quoted in this piece do not own shares of the companies mentioned and their firms have no investment banking relationships with them.